What is the Discount Rate and why has it changed?

17 Apr 2017

The Discount Rate is used when calculating future losses in large personal injury claims.  A future loss is calculated by multiplying a multiplicand (the loss per year) by a multiplier (reflecting the number of years into the future that the loss will be incurred).

The theory behind applying a Discount Rate to the multiplier is that by receiving a lump sum for future losses, the claimant will be able to achieve an annual rate of return upon that sum by investing it.  Were a Discount Rate not applied this would potentially lead to overcompensation.

The Discount Rate is set by the Lord Chancellor, following the House of Lords case of Wells v Wells [1999] 1 A.C. 345, in which it was held that the Discount Rate should be based on the assumption that as a risk averse investor a personal injury claimant would invest their damages in Index Linked Government Stock (ILGS).  As a result the Discount Rate would reflect the annual rate of return achievable from investing in ILGS, and reduce the multiplier in a future loss calculation accordingly.

The problem with this situation is that before the recent change, the Lord Chancellor last set the Discount Rate in 2001 to reflect the annual rate of return then available on ILGS at 2.5%.  As time has passed the real rate of return available on ILGS has decreased, particularly following the world financial crisis in 2008, as risk free, secure investments have become more and more difficult to find, and the yield available on them has shrunk.

As a result personal injury claimants have been undercompensated for their future loss claims, as multipliers have been reduced by a Discount Rate set in 2001 reflecting a rate of return on ILGS which in reality has been completely unachievable.  Therefore, following a Judicial Review by APIL, in February 2017 the Lord Chancellor amended the Discount Rate to -0.75% from 20th March 2017 in order to reflect the current reality of investing in ILGS.

A negative Discount Rate now has the effect of increasing the multiplier used to calculate future loss rather than decreasing it.  This has had the effect of increasing the value of personal injury claims with a future loss element overnight, often by as much as 100% or more.

In reality though the negative Discount Rate only reflects the gap between the current rate of return available on ILGS and the increasing rate of inflation making, for example, the cost of care, more and more expensive for a personal injury claimant reliant upon care for the rest of his or her lifetime.

The Ministry of Justice has now launched a consultation on the future of the Discount Rate and how it is decided, and it remains to be seen what the long term position will be.

For more information on the discount rate or to speak with a personal injury lawyer about a potential claim contact us online or by telephone on 0207 485 8811.

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